Accounting Principles of International Financial Reporting Standards - Case Study Example

Acct 217 paper Introduction International Financial Reporting Standards constitutes a set of generally accepted accounting principles, which are adopted, by companies, and employed to assist in preparation of interim, and end-of-year financial statements. They are a vital source of information, useful to the shareholders, employees, customers, debtors, suppliers and many others. (Nikolai, 2009) The importance of IFRS is enabling these individual entities to learn and understand the financial position and financial performance of the company. They also indicate if the management is using the company’s resources to the best interest of the company. These standards are formulated by the International Accounting Standards Board (IASB). The set of accounting standards is adopted and followed by more than 100 countries. The member countries of the European Union (EU) use these standards. (Poschke, 2012) In the United States, the accounting rules and procedures applied in the preparation, presentation and reporting of the financial performance of a company is the Generally Accepted Accounting Principles (U.S. GAAP). These principles are widely used by various entities, which include; government, public and private corporations and also by non-profit making organisations. The government, in the United States, does not set accounting standards directly. Financial Accounting Standards Board (FASB) is the highest body that sets the accounting standards for the private and public firms and the non-profit making organisations. Government Accounting Standards Board (GASB), on the other hand, sets the generally accepted accounting principles for the local and the state government. (Poschke, 2012) The convergence process is not similar to conversion. Today, there are several differences between US GAAP and IFRS accounting policies. The FASB will collaborate with the IASB so as to improve the existing US GAAP and IFRS and get rid of the differences. They will work together through joint projects and come up with standard accounting principles. The transition requires the US companies to spend between 0.125% and 0.13% of their revenue. The AICPA is providing the United States with the necessary information and tools like websites, needed to implement the new standards. Currently, with the rising globalisation of companies and the financial market, there is a need to use a single set of accounting standards across the globe. This will enhance the development of comparable and transparent financial records and financial statements across borders. There will also be an improvement in the consistency of a company’s financial reporting standards as similar groups of people apply consistent accounting principles. The convergence will also assist in the reduction of costs of preparing amalgamated financial statements of companies operating across the globe. (Pounder, 2009) Both the US GAAP and the IFRS have some common features like the same principles and framework. On the other hand, US GAAP is rule based whereas IFRS is principle based and it provides fewer details. This paper focuses majorly on the comparison of principle-based and rule-based accounting approaches and the consequences of converging US GAAP with IFRS. Main body The Rule based accounting approaches deals with the preparation of financial records based on a list of rules and procedures to be adopted. It focuses less on judgement and pays more attention to detailed rules set by the law. A majority of the accountants prefer using rule based accounting approaches as there is limited liability accruing to them in case of preparation of inaccurate financial statement. This approach allows accountants to prepare financial statements that meet the letter of law, whereas, the spirit of the law is corrupted. Principle-based accounting approach is such that it reveals the conceptual decisions of accountants. A list of core objectives are set out to ascertain appropriate financial reporting, and examples that are also provided to serve as guidelines, and to explain the objectives. However, the guidelines provided are not in use for every situation. The primal advantage of this approach is that the broad guidelines provided can be applied in different circumstances. Here, accountants use their own judgement to make inferences about the financial position of a certain institution. (Warren, 2009) The current rule-based accounting approach in the US has not being working considerably well recently, and it has resulted to too many problems. The main concern is that financial statements provided by accountants should be relevant and comparable across a majority of reporting entities. A principle-based approach provides an increase in the comparability and consistency of the financial records provided. (Nikolai, 2009) Advantages and disadvantages of a principle based accounting framework. The primary benefit is that it provides a variety of guidelines that can be applied in various companies’ activities. The broad range of guidelines provided improves the representational fidelity of financial records produced. The broad principles ensure that the booby traps associated with exact requirements that allow contracts to be expressly defined so as manipulate their goal. (Yu, 2012) In addition, this approach allows accountants and auditors to apply professional judgments in formation of an opinion about the financial position of a company. Moreover, the standards employed are easier and simpler to use. They are also easier to apprehend, and utilize in a broad range of companies’ transactions. Finally, the use of this approach ensures that the accounting report produced reflect the right position and performance of the company. (Warren, 2009) Conversely, there are a variety of drawbacks of the principle-based accounting approach. First, it lacks precise rules and guidelines that can lead to inconsistency in the practical application of the standards across institution. This could contribute to a reduction in the comparability and consistency of the provided financial records. Advantages of converging US GAAP with IFRS Comparability- the US switching to IFRS will enable a variety of individuals and companies to view financial reports on the same plane. Companies with subsidiaries across the globe will use one accounting language. There would be an increase in cross-border trading, investment and integration of the capital market. This is mainly because, financial statements are more comparable. Companies will, thus, allocate their capital and resources more effectively. (William, 2011) Cost saving-it primarily affects multinational companies. Reduction in costs is mainly because the companies will not maintain separate financial reporting for each subsidiary. However, companies will incur transition costs relative to cost savings. These costs include; training of staff, updating computer systems and documentation and hiring of qualified personnel in the field. However, for multinational corporations, there will still be cost saving despite the transition costs as they will prepare a lesser amount of financial reports. IFRS can reduce IT costs by providing a framework for storage and retrieving the financial information. (William, 2011) Moreover, IFRS is easier to use and apply. It does not involve the application of set rules and procedures. Accountants and auditors are only expected to use their own judgement so as to form an opinion of the true state of affairs of a company. An Increased investment. Most investors prefer companies that use IFRS. US companies converting to IFRS will attract more investors to the continent. Also, these US countries can invest easily in other countries across the globe. Most countries across the globe have already adopted IFRS, and this will enhance investment. (William, 2011) Despite all the benefits of converting to IFRS, there are several complexities associated with the convergence. It is uncertain whether the benefits of the transition will exceed the transition costs. For most middle-sized and small-scale corporations, transition costs will appear extremely heavy and will end up incurring large loss margins. On the other hand, these companies will see no sense of switching to IFRS, whereas US GAAP has proved to be of high quality. Their foremost concern would be whether IFRS and IASB will meet the quality they had with US GAAP and whether they have the sufficient resources. (Yu, 2012) Conclusion In conclusion, the convergence of the US GAAP with IFRS is of crucial importance to the United State. As the differences between the two accounting approaches are significantly reduced, it will cause various changes in accounting and reporting of US companies. All companies and corporations are urged to take up this initiative as it can increase their profit margins. In addition to that, the Securities Exchange Commission should work to their best interest to ensure that this accounting approach is adopted. They should decide whether they will require mandatory adoption of the IFRS accounting policies. (James, 2009) There are three priorities that outline the conversion process to principle based accounting system. The first step is to improve the already existing approach as it is considered ambiguous, incomplete and inconsistent. Secondly, the number of exceptions must be reduced. There are three exceptions in the US GAAP which are scope, application and transition. The reduction would highly reduce complexity of the standards and clearly reflect the financial events of a company. Lastly, the amount of interpretive guidance should be eliminated. This is to increase the comparability between different reporting entities. The convergence and implementation process to IFRS approaches is not easy, but, it requires a change in the attitudes of all the constituents and users of accounting information. They include; auditors, accountants, investors, suppliers, the public, the Securities Exchange Commission and the standard setters. (James, 2012) References James, M. L. (2009). Accounting For Global Entities And The Effect Of The Convergence Of U.S. Generally Accepted Accounting Principles To International Financial Reporting Standards. Journal of The International Academy for Case Studies,,29-38. Nikolai L., B. J. (2009). Intermediate Accounting. Ohio: Rob dewey. Poschke, M. (2012). Incorporation of IFRS in the United States: An Analysis of the SECs Options and the Implications for the EU. European Company and Financial Law Review, pp. 38-95. Pounder, B. (2009). Convergence Guidebook For Corporate Financial Reporting. New Jersey: John Wiley & sons, Inc. Warren S., R. M. (2009). Financial & managerial Accounting. Ohio: South-Western Cengage Learning. Warren S., R. M. (2009). accounting. Ohio: South-Western Cengage Learning. William, B. W. (2011). Heedless Globalism: The Sec’s Roadmap To Accounting Convergence. University of Cincinnati Law Review, 471-498. Yu, J. (2011). Evidence From The SECs Elimination of The IFRS- U.S GAAP Reconciliation. 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